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Closely held corporations
Distinguishing features There is no intelligent The American Bar Association lists six attributes that in its opinion constitute good evidence that a close corporation is involved: *(1) ownership "by a small number of persons"; -'' there is no intelligent brigh line, could; however, write down 35 people. Unlike Apple though, these owners know each-other. '' *(2) a high degree of overlap between the shareholders and the managers and employees; *(3) a need to customize the management structure because the business is too small to support the cost of corporate formalities or because a tradtiion of several lawyers is inappropriate; *(4) sharehodler have little investment liquidity. *(5) no readily observable market price exists for the ownership interests; and *(6) deadlocks may arise because of hte small number of shareholders. Elmaleh v. Barlow, deemed a close corporation to be typified by *(1) a small number of stockholders *(2) no ready market for the corporate stock *(3) substantial majority stockholder participation in the management, direction, and operations of the corporation." Legal issues *''There is no problem with owners controlling the corporations; rather, the problem is the misuse of control. The problem is not exercising control, the problem is how to prevent the other from misusing that control. For instance, could have a small closely-hold corporation with ... There is often a consolidation of power within one or coalition of shareholders and thus need to set standards by which that power must be exercised - bringing up fiduciary duties..'' *''In contrast, to public corporation (difficult to maintain control)..'' The central characteristics of a corporations are as follows *free transferability of ownership interests *continuity of existence *centralized management *entity status ads *Fewer shareholders - In closely held corporations there are often fewer shareholders than publicly held corporations. Some of these shareholders may be family members or friends of the founder. Shareholders of closely held corporations are often active in the management of the business. Thus, the law may recognize a certain informality in determined whether there has been compliance with corporate rules that may be inappropriate in other types of corporations. In addition, the closely held corporation may use contracts to govern relationsihps among shareholders and the directors. The law may recognize these private arrangements as a substitute for legal rules. *No stock market - in addition, unlike publicly held corporations , closely held corporations do not have a stock market to provide liquidity and easy exit from investment. Therefore, minority sharehodler may end up locked into a situation in which a control group acts for its own benefit. Some courts recognize that these closely held corporation are like incorporated partnerships to which courts may apply higher standards for fiduciary duties to the participants which are inapplicable in publicly traded corporations. **While the owner may not be able to sell sahres because of share transfer restrictions, more likely the owner may not be able to sell simply because no share market exists. In turn, no market exists, despite the corporation's possession of valuable assets or a successful onoing business becuase in the standard corporate governance model majority rules. The distinction between shareholders and managers may be insigifnicant because they may substantially overlap. Corporate Law Responses to the Illiquidity and Exploitation Situation The history of the law's development in the area of closely held corporations has been: *before the fact (ex ante) and *after the fact (ex post) attempts to deal with all or certain aspects of the illiquidty and exploitation problem. Ex ante Before attempts at exploitation have surfaced, attorneys have anticipated potential exploitation through contractual provisions which vary from normal governance rules such as: *supermajority quorum and voting requirements giving minority factions added power *employement contracts for shareholder employees *comprehensive shareholder agreements combining variations from the ordinary governance rules with added protections for the minority in terms of employment, distributions, and so on. *long-term shareholder tenure and salary agreements *Less than Unanimous Shareholder Agreements Legislatures have also responded by enacting special statutory provision applicable to closely held corporations. In general, these provisions make clear the ability of participants and their lawyers to vary from the governance and financial model of the coropration law sets up for other corporations. Ex post Close corporation statues have two effects. One result of such statues is to render agreements more likely to withstand judicial or shareholder attack. In a bygone era courts struck down provisions in shareholder agreements as attempt to handcuff or sterilize the board of directors, or as illegal attempts to operate a corporation as if it were a partnership. Another result for close stautes is to create special remedies for closely held corporation pariticipants such as dissolution for deadlock or oppression, appointment of a provisional director, and mandatory share repurchases. In litigation occuring after the fact of exploitation, jduges have come to demonstrate solicitdue for the situation in which closely held corporation and minority participants frequently find themselves. *Appellate courts in a number of jurisdictions have created heightened fiduciary duties owed not merely to the corporation but by all participants one to another, akin to partners in a parntership. **Ex - Donahue v. Rodd Electrotype Co. **Conflict with Employment at Will *Furthermore, courts have given new meaning to the term oppresssion as that term is used in involuntary dissolution statutes. The second principal way is to articulate new tests of when shareholders have been "opprssed" by those in contorl of the coropation and thus, may be able to seek involuntary dissolution of hte coropraiton. *And increasingly, courts have been willing to grand remedies tailored to the problem of illiquidtity and exploitation found in the closely held corporation context.